China steps closer to full in­ter­est rate lib­er­al­i­sa­tion

China’s new move to scrap the manda­tory loan-to-de­posit ra­tio (LDR) is set to help re­duce the coun­try’s over­all fi­nanc­ing costs and bring it one step closer to full in­ter­est rate lib­er­al­i­sa­tion.

The State Coun­cil, or the cab­i­net, passed a draft amend­ment to China’s Bank­ing Law last Wed­nes­day that gives banks more free­dom to make loans by re­mov­ing the 75% loan-to-de­posit ra­tio.

The ra­tio will in­stead be seen as a liq­uid­ity-mon­i­tor­ing in­di­ca­tor, ac­cord­ing to a state­ment re­leased af­ter an ex­ec­u­tive meet­ing chaired by Premier Li Ke­qiang.

The move will en­able fi­nan­cial in­sti­tu­tions to in­crease lend­ing to agri­cul­ture and small busi­nesses, the state­ment said.

Zeng Gang, with the Chi­nese Academy of So­cial Sciences, said the re­moval of the LDR re­quire­ment was an “in­evitable re­sult”.

The rule has re­sulted in dis­tor­tions in the fi­nan­cial mar­ket, as many banks had to rush to ab­sorb more de­posits at the end of each month to meet the re­quire­ment, he said.

The draft amend­ment will be tabled to the top leg­is­la­ture, the Na­tional Peo­ple’s Congress Stand­ing Com­mit­tee, for re­view.

China has kept the 75% ra­tio un­changed for years. Last year, the cen­tral bank ex­panded the def­i­ni­tion of what con­sti­tutes a bank’s de­posits in a bid to re­lease more cap­i­tal for lend­ing.

At the end of the first quar­ter this year, the over­all LDR was 65.67%, much lower than the 75% red line set by the bank­ing reg­u­la­tor.

But some small and medium-sized banks have LDR lev­els near­ing or even higher than the line.

Zhong Hua, re­searcher with the Hong Kong-based Hang Seng Bank Lim­ited, said the new move will give small and medium-sized banks more room to make loans.

“Since those banks lend mostly to small and medi­um­sized en­ter­prises [SMEs], the move will help lower the fi­nanc­ing cost Zhong said.

Lian Ping, chief economist with the Bank of Com­mu­ni­ca­tions, agreed, say­ing that the mea­sure is con­ducive to re­duc­ing lend­ing rates and thus the over­all so­cial fi­nanc­ing costs.

“In terms of im­me­di­ate im­pact, we do not think the re­moval of the LDR will have a ma­te­rial im­pact on loan growth,” a re­search note from the HSBC reads.

The real con­straint on bank lend­ing is risk aver­sion, which meant that the will­ing­ness to lend has di­min­ished faster rel­a­tive to the de­mand from bor­row­ers. There­fore more ag­gres­sive mon­e­tary pol­icy eas­ing is still the most ef­fec­tive an­ti­dote to the slow­down in lend­ing growth, HSBC said.

“The move is another step on the path of fi­nan­cial re­form and in­ter­est rate lib­er­al­i­sa­tion,” it said.

Zhou Xiaochuan, gover­nor of China’s cen­tral bank, said ear­lier this year that there is a high like­li­hood that in­ter­est rate lib­er­al­i­sa­tion re­forms will be com­pleted by the end of this year.